Can Price Cuts Get Apple 10% Share?

Apple's fiscal 2008 third-quarter conference call set off speculation that the company would price aggressively as a means of capitalizing on recent market-share gains. During the call, Apple Chief Financial Officer Peter Oppenheimer warned of falling margins for the next quarter and fiscal 2009, in part because of a forthcoming product transition. But during the Q&A session, Apple executives also suggested the company would be aggressive on pricing, although there were no details given other than an allusion to iPods' staggered pricing.

In a research note published July 22, Bernstein Research analyst Toni Sacconaghi explained:

We hypothesize that FY09 GM guidance is attributable in part to Apple' s conservatism, but also to a potentially significant forthcoming set of repricing actions on new products, most likely in Apple's notebook or iPod lineup. The strategy appears to be a conscious decision by Apple to drive higher gross margin dollars through improved volume and lower margins—akin to what Apple has recently done with price cuts on its iPod shuffle and iPhone."

The questions to ask:

• Should Apple reprice?
• How aggressively should it reprice?
• How much is to be truly gained from repricing?

The analysts I queried nearly universally expressed caution, that Apple could risk more than it would gain by lowering pricing to pick up a few percentage points in market share.

Apple's dilemma is this: Macs are making remarkable market-share gains, with Apple's U.S. computer shipment share being 8.5 percent in the second calendar quarter, up from 6.4 percent a year earlier, according to Gartner. I see several reasons for Apple's market-share gains:

• Halo sales effect from iPod
• Really smart, effective marketing (Can you say "Get a Mac" ads?)
• Windows Vista's crash landing
• Apple Stores (As points of sale, customer service and brand promoters)
• Windows Vista's crash landing (So bad it's listed here twice)
• Distribution—Macs are available in 10,300 retail locations, 1,600 new ones in the second calendar quarter
• Office 2008

But Apple's gains are coming largely from premium pricing in a garage sale market.

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"Apple is faced with a mobile market where the vast majority of the unit volume is below $1,000 for both the notebook and desktop markets," said Van Baker, Gartner's research veep for retail and manufacturing. "Seventy-seven percent of the U.S. desktop market sells below $1,000 and 61 percent of the notebook market sells below $1,000. If Apple chooses to address these price points at all they will be open to a much bigger market, albeit one with lower margins."

By comparison, nearly all Macs sell for more than $1,000. The iMac starts at $1,199 and Mac Pro at $2,799. The MacBook starts at $1,099, MacBook Air at $1,799 and MacBook Pro at $1,999. Apple's sub-$1,000 computer is the Mac Mini, preconfigured for $599 or $799. Problem: The Mac Mini comes with no extras—mouse, keyboard or monitor—at prices where the peripherals are standard features with most Windows PCs.

In the United States, lower-cost competition is just one consideration. Most homes now have at least two computers. "You're asking people to spend $1,200 or $1,300. That's a lot of money to spend on the third or fourth PCs in the home," said Stephen Baker, NPD's vice president of industry analysis.

"Apple has always avoided the low end," said Endpoint Technologies Associates President Roger Kay. But with slowing economies, ever-falling PC prices and Apple's recent market-share gains, there has got to be temptation to offer a sub-$1,000 Mac desktop or portable. "Lower prices have a strong historical correlation with volume increases," Roger explained.

But volume increases could create problems Apple should want to avoid. For example, pricing is part of the company's image. "Apple has always cultivated a premium brand image," Roger said. If low-cost PCs are Ford, then Apple is Ferrari. What value would the Ferrari brand have if the cars sold at Ford prices?

Stephen said he believes that Apple sells more than computers, iPods or iPhones—it's a computing lifestyle. "The core to their success is that they deliver an overall experience that is superior what you get from the other guys, because of the control they have over the pieces and the pricing," he explained. Low pricing could negatively degrade the user experience.

The aforementioned margin decline is another consideration. Related: How much is pricing less worth in added market share? "I'm not even sure having $999 PCs in the Apple Store is a risk worth the reward. Is it an incremental opportunity, or will it cannibalize something?" Stephen asked.

Cannibalization could be big, if people were willing to spend more buy something lesser. "Maybe 25 percent of those people would have bought a $1,399 notebook," Stephen said. "You just handed them $400 to $500 when they walked in the door."

David Daoud, an analyst with IDC's Personal Computing, PC Tracker and Green IT programs, doesn't see Apple deep-diving prices. "Whatever price decreases the company will announce, it will still remain higher than [the] competition. Apple cannot afford going after low-end buyers, who have been hard hit by the economic downturn."

Apple "will need to continue to focus on those who still have good disposable income and [are] willing to pay premium for the brand," David emphasized. "However, Apple is apparently recognizing that even among those with higher disposal incomes, cutbacks or more budgeting have to be done. Oil prices have gone so high that Apple and others are actually now competing against oil companies, so to speak."

David's colleague, Al Gillen, doesn't see much for Apple to gain among enterprises simply by repricing. "The cost of change is high, and even if a new solution is cheaper to acquire at the basic hardware/OS level, if there is a big investment required for application software and training, and potentially higher long-term support costs associated with a more heterogeneous client infrastructure," then those are factors to consider, he explained.

Stephen is hopeful Apple will use good judgment, based on the iPod's success. "They're pretty good pricers. They know how to maximize their pricing with iPod." But he warned: "I don't want them changing [Mac] pricing for volume's sake. I want them to add incremental value to the Mac ecosystem that they profit from."

Al, who is IDC's research vice president for system software, made a firm prediction: "Can Apple increase market share somewhat? Sure, it probably can by being aggressive on price. Will that gain be five, six or 10 points? Probably not."

[Please send your tips or rumors to watchtips at live.com]

Posted by Joe Wilcox on July 23, 2008 1:03 PM